Workers who were earning less than the new wage floor are not the only ones who benefit from a higher minimum wage.by Jeannette Wicks-Lim, Dollars & SenseJune 28th, 2006

Raising the minimum wage is quickly becoming a key political issue
for this fall's midterm elections. In the past, Democratic politicians
have shied away from the issue while Republicans have openly opposed a
higher minimum wage. But this year is different. Community activists
are forcing the issue by campaigning to put state minimum-wage
proposals before the voters this fall in Arizona, Colorado, Ohio, and
Missouri. No doubt inspired by the 100-plus successful local
living-wage campaigns of the past ten years, these activists are also
motivated by a federal minimum wage that has stagnated for the past
nine years. The $5.15 federal minimum is at its lowest value in
purchasing-power terms in more than 50 years; a single parent with two
children, working full-time at the current minimum wage, would fall
$2,000 below the poverty line.

Given all the political activity on the ground, the Democrats have
decided to make the minimum wage a central plank in their party
platform. Former presidential candidate John Edwards has teamed up with
Sen. Edward Kennedy (D-Mass.) and ACORN, a leading advocacy group for
living wage laws, to push for a $7.25 federal minimum. Even some
Republicans are supporting minimum wage increases. In fact, a
bipartisan legislative coalition unexpectedly passed a state minimum
wage hike in Michigan this March.

Minimum-wage and living-wage laws have always caused an uproar in
the business community. Employers sound the alarm about the dire
consequences of a higher minimum wage both for themselves and for the
low-wage workers these laws are intended to benefit: Minimum wage
mandates, they claim, will cause small-business owners to close shop
and lay off their low-wage workers. A spokesperson for the National
Federation of Independent Business (NFIB), commenting on a proposal to
raise Pennsylvania's minimum wage in an interview with the Philadelphia
Inquirer, put it this way: "That employer may as well be handing out
pink slips along with the pay raise."

What lies behind these bleak predictions? Mark Shaffer, owner of
Shaffer's Park Supper Club in Crivitz, Wisc., provided one explanation
to the Wisconsin State Journal: "...increasing the minimum wage would
create a chain reaction. Every worker would want a raise to keep pace,
forcing up prices and driving away customers." In other words,
employers will not only be forced to raise the wages of those workers
earning below the new minimum wage, but also the wages of their
co-workers who earn somewhat more. The legally required wage raises are
difficult enough for employers to absorb, they claim; these other
raises—referred to as ripple effect raises—aggravate the situation. The
result? "That ripple effect is going to lay off people."

Ripple effects represent a double-edged sword for minimum-wage and
living-wage proponents. Their extent determines how much low-wage
workers will benefit from such laws. If the ripple effects are small,
then a higher minimum (or living) wage would benefit only a small class
of workers, and boosting the minimum wage might be dismissed as an
ineffective antipoverty strategy. If the ripple effects are large, then
setting higher wage minimums may be seen as a potent policy tool to
improve the lives of the working poor. But at the same time, evidence
of large ripple effects provides ammunition to employers who claim they
cannot afford the costs of a higher wage floor.

So what is the evidence on ripple effects? Do they bloat wage bills
and overwhelm employers? Do they expand the number of workers who get
raises a little or a lot? It's difficult to say because the research on
ripple effects has been thin. But getting a clear picture of the full
impact of minimum and living wage laws on workers' wages is critical to
evaluating the impact of these laws. New research provides estimates of
the scope and magnitude of the ripple effects of both minimum-wage and
living-wage laws. This evidence is crucial for analyzing both the full
impact of this increasingly visible policy tool and the political
struggles surrounding it.

Why Do Employers Give Ripple-Effect Raises?

Marge Thomas, CEO of Goodwill Industries in Maryland, explains in an
interview with The Gazette (Md.): "There will be a ripple effect [in
response to Maryland's recent minimum wage increase to $6.15], since it
wouldn't be fair to pay people now making above the minimum wage at the
same level as those making the new minimum wage." That is, without
ripple effects, an increase in the wage floor will worsen the relative
wage position of workers just above it. If there are no ripple effects,
workers earning $6.15 before Maryland's increase would not only see
their wages fall to the bottom of the wage scale, but also to the same
level as workers who had previously earned inferior wages (i.e.,
workers who earned between $5.15 and $6.15).

Employers worry that these workers would view such a relative
decline in their wages as unfair, damaging their morale—and their
productivity. Without ripple effect raises, employers fear, their
disgruntled staff will cut back on hard-to-measure aspects of their
work such as responding to others cheerfully and taking initiative in
assisting customers.

So employers feel compelled to preserve some consistency in their
wage scales. Workers earning $6.15 before the minimum increase, for
example, may receive a quarter raise, to $6.40, to keep their wages
just above the new $6.15 minimum. That employers feel compelled to give
non-mandated raises to some of their lowest-paid workers because it is
the "fair" thing to do may appear to be a dubious claim. Perhaps so,
but employers commonly express anxiety about the costs of minimum-wage
and living-wage laws for this very reason.

The Politics of Ripple Effects

Inevitably, then, ripple effects come into play in the political
battles around minimum-wage and living-wage laws—but in contradictory
ways for both opponents and supporters. Opponents raise the specter of
large ripple effects bankrupting small businesses. At the same time,
though, they argue that minimum-wage laws are not effective in fighting
poverty because they do not cover many workers—and worse, because those
who are covered are largely teens or young-adult students just working
for spending money. If ripple effects are small, this shores up
opponents' assertions that minimum-wage laws have a limited impact on
poverty. Evidence of larger ripple effects, on the other hand, would
mean that the benefits of minimum-wage laws are larger than previously
understood, and that these laws have an even greater potential to
reduce poverty among the working poor.

The political implications are complicated further in the context of
living-wage laws, which typically call for much higher wage floors than
state and federal minimum-wage laws do. The living-wage movement calls
for wage floors to be set at rates that provide a "livable income,"
such as the federal poverty level for a family of four, rather than at
the arbitrary—and very low—level current minimum-wage laws set. The
difference is dramatic: the living-wage ordinances that have been
passed in a number of municipalities typically set a wage floor twice
the level of federal and state minimum wages.

So the mandated raises under living-wage laws are already much
higher than under even the highest state minimum-wage laws. If
living-wage laws have significant ripple effects, opponents have all
the more ammunition for their argument that the costs of these laws are
unsustainable for employers.

How Big are Ripple Effects?

My answer is a typical economists' response: it depends. In a
nutshell, it depends on how high the wage minimum is set. The reason
for this is simple. Evidence from the past 20 years of changes to state
and federal minimum wages suggests that while there is a ripple effect,
it doesn't extend very far beyond the new minimum. So, if the wage
minimum is set high, then a large number of workers are legally due
raises and, relatively speaking, the number of workers who get
ripple-effect raises is small. Conversely, if the wage minimum is set
low, then a small number of workers are legally due raises and,
relatively speaking, the number of workers who get ripple-effect raises
is large.

In the case of minimum-wage laws, the evidence suggests that ripple
effects do dramatically expand their impact. Minimum wages are
generally set low relative to the wage distribution. Because so many
more workers earn wages just above the minimum wage compared to those
earning the minimum, even a small ripple effect increases considerably
the number of workers who benefit from a rise in the minimum wage. And
even though the size of these raises quickly shrinks the higher the
worker's wage rate, the much greater number of affected workers
translates into a significantly larger increase in the wage bills of
employers.

For example, my research shows that the impact of the most recent
federal minimum-wage increase, from $4.75 to $5.15 in 1997, extended to
workers earning wages around $5.75. Workers earning between the old and
new minimums generally received raises to bring their wages in line
with the new minimum—an 8% raise for those who started at the old
minimum. Workers earning around $5.20 (right above the new minimum of
$5.15) received raises of around 2%, bringing their wages up to about
$5.30. Finally, those workers earning wages around $5.75 received
raises on the order of 1%, bringing their wages up to about $5.80.

This narrow range of small raises translates into a big overall
impact. Roughly 4 million workers (those earning between $4.75 and
$5.15) received mandated raises in response to the 1997 federal minimum
wage increase. Taking into account the typical work schedules of these
workers, these raises translated into a $741 million increase to
employers' annual wage bills. Now add in ripple effects: Approximately
11 million workers received ripple-effect raises, adding another $1.3
billion to employers' wage bills. In other words, ripple-effect raises
almost quadrupled the number of workers who benefited from the
minimum-wage increase and almost tripled the over-all costs associated
with it.

Dramatic as these ripple effects are, the real impact on employers
can only be gauged in relation to their capacity to absorb the higher
wage costs. Here, there is evidence that businesses are not overwhelmed
by the costs of a higher minimum wage, even including ripple effects.
For example, in a study I co-authored with University of Massachusetts
economists Robert Pollin and Mark Brenner on the Florida ballot measure
to establish a $6.15 state minimum wage (which passed overwhelmingly in
2004), we accounted for ripple-effect costs of roughly this same
magnitude. Despite almost tripling the number of affected workers (from
almost 300,000 to over 850,000) and more than doubling the costs
associated with the new minimum wage (from $155 million to $410
million), the ripple effects, combined with the mandated wage
increases, imposed an average cost increase on employers amounting to
less than one-half of 1% of their sales revenue. Even for employers in
the hotel and restaurant industry, where low-wage workers tend to be
concentrated, the average cost increase was less than 1% of their sales
revenue. In other words, a 1% increase in prices for hotel rooms or
restaurant meals could cover the increased costs associated with both
legally mandated raises and ripple-effect raises.

The small fraction of revenue that these raises represent goes a
long way toward explaining why economists generally agree that
minimum-wage laws are not "job killers," as opponents claim. According
to a 1998 survey of economists, a consensus seems to have been reached
that there is minimal job loss, if any, associated with minimum-wage
increases in the ranges that we've seen.

Just as important, this new research revises our understanding of
who benefits from minimum wage laws. Including ripple-effect raises
expands the circle of minimum-wage beneficiaries to include more adult
workers and fewer teenage or student workers. In fact, accounting for
ripple effects decreases the prevalence of teenagers and
traditional-age students (age 16 to 24) among workers likely to be
affected by a federal minimum-wage increase from four out of ten to
three out of ten. In other words, adult workers make up an even larger
majority of likely minimum-wage beneficiaries when ripple effects are
added to the picture.

The Case of Living-Wage Laws

With living-wage laws, the ripple effect story appears to be quite
different, however—primarily because living wage laws set much higher
wage minimums.

To understand why living-wage laws might generate far less of a
ripple effect than minimum-wage hikes, it is instructive to look at the
impact of raising the minimum wage on the retail trade industry. About
15% of retail trade workers earn wages at or very close to the minimum
wage, compared to 5% of all workers. As a result, a large fraction of
the retail trade industry workforce receives legally mandated raises
when the minimum wage is raised, which is just what occurs across a
broader group of industries and occupations when a living-wage
ordinance is passed.

My research shows that the relative impact of the ripple effect that
accompanies a minimum-wage hike is much smaller within retail trade
than across all industries. Because a much larger share of workers in
retail receive legally required raises when the minimum wage is raised,
this reduces the relative number of workers receiving ripple effect
raises, and, in turn, the relative size of the costs associated with
ripple effects. This analysis suggests that the ripple effects of
living wage laws will likewise be smaller than those found with
minimum-wage laws.

To be sure, the ripple effect in the retail trade sector may
underestimate the ripple effect of living-wage laws for a couple of
reasons. First, unlike minimum-wage hikes, living-wage laws may have
ripple effects that extend across firms as well as up the wage
structure within firms. Employers who do not fall under a living-wage
law's mandate but who are competing for workers within the same local
labor market as those that do may be compelled to raise their own wages
in order to retain their workers. Second, workers just above
living-wage levels are typically higher on the job ladder and may have
more bargaining power than workers with wages just above minimum-wage
levels and, as a result, may be able to demand more significant raises
when living-wage laws are enacted.

However, case studies of living-wage ordinances in Los Angeles and
San Francisco do suggest that the ripple effect plays a smaller role in
the case of living-wage laws than in the case of minimum-wage laws.
These studies find that ripple effects add less than half again to the
costs of mandated raises—dramatically less than the almost tripling of
costs by ripple effects associated with the 1997 federal minimum-wage
increase. In other words, the much higher wage floors set by
living-wage laws appear to reverse the importance of legally required
raises versus ripple-effect raises.

Do the costs associated with living-wage laws—with their higher wage
floors—overwhelm employers, even if their ripple effects are small? To
date, estimates suggest that within the range of existing living-wage
laws, businesses are generally able to absorb the cost increases they
face. For example, Pollin and Brenner studied a 2000 proposal to raise
the wage floor from $5.75 to $10.75 in Santa Monica, Calif. They
estimated that the cost increase faced by a typical business would be
small, on the order of 2% of sales revenue, even accounting for both
mandated and ripple-effect raises. Their estimates also showed that
some hotel and restaurant businesses might face cost increases
amounting to up to 10% of their sales revenue—not a negligible sum.
However, after examining the local economy, Pollin and Brenner
concluded that even these cost increases would not be likely to force
these businesses to close their doors. Moreover, higher productivity
and lower turnover rates among workers paid a living wage would also
reduce the impact of these costs.

Ultimately, the impact of ripple-effect raises appears to depend
crucially on the level of the new wage floor. The lower the wage floor,
as in the case of minimum-wage laws, the more important the role of
ripple-effect raises. The higher the wage floor, as in the case of
living-wage laws, the less important the role of ripple-effect raises.

Making the Case

The results of this new research are generally good news for
proponents of living- and minimum-wage laws. Ripple effects do not
portend dire consequences for employers from minimum and living wage
laws; at the same time, ripple-effect raises heighten the effectiveness
of these laws as antipoverty strategies.

In the case of minimum-wage laws, because the cost of legally
mandated raises relative to employer revenues is small, even ripple
effects large enough to triple the cost of a minimum-wage increase do
not represent a large burden for employers. Moreover, ripple effects
enhance the somewhat anemic minimum-wage laws to make them more
effective as policy tools for improving the lot of the working poor.
Accounting for ripple effects nearly quadruples the number of
beneficiaries of a minimum-wage hike and expands the majority of those
beneficiaries who are adults—in many instances, family breadwinners.

However, ripple effects do not appear to overwhelm employers in the
case of the more ambitious living-wage laws. The strongest impact from
living-wage laws appears to come from legally required raises rather
than from ripple-effect raises. This reinforces advocates' claims that
paying a living wage is a reasonable, as well as potent, way to fight
poverty.

Jeannette Wicks-Lim is an economist and research
fellow at the Political Economy Research Institute at the University of
Massachusetts-Amherst. She specializes in labor economics, with an
emphasis on the low-wage labor market. She has co-authored several
living-wage and minimum-wage studies.